Rogue trader calls for smarter regulation to avert disaster

RSA Europe 2009 Nick Leeson, the rogue trader who bankrupted a bank before it became fashionable, said that unless the quality of regulation improves, further financial disasters such as the Barings Bank collapse he precipitated are inevitable.

Leeson, told journalists at the RSA Europe conference on Thursday that little has changed in the 14 years since his actions resulted in losses in excess of £827m ($1.3bn) and the collapse of Barings in 1995. He told delegates that fraud management systems with appropriate knowledge-based rules are the only way to expose the cavalier risk taking he carried out during three years at Barings.

As an ambitious 25-year-old, Lesson travelled over to Singapore in 1992 to establish a business for Barings in the futures and derivatives market. Early successes were soon replaced by losses which Leeson disguised by pushing losses into an error account (called 88888). He covered these losses by obtaining an overdraft, with daily funds from London keeping the bank afloat as the losses and overdraft swelled. It was only when other banks called in the debt that the situation collapsed.

For three years Lesson managed to fob off queries from the risk management, compliance and treasury departments at Barings. He told a different set of lies to each that relied in part on a lack of knowledge about derivatives trading, as well as his own intelligence and skills as a ducker and diver, to delay the inevitable.

Leeson was left in charge both of making trades and their settlement, functions that normally ought to be split, a factor that enabled the ruse to continue.

“There was poor systems and control as well as a lack of oversight by the board,” Leeson explained. “You can't rely on the human element which is why IT systems have a vital role to play. The people who questioned me had no understanding of the market and that left them unable to put everything together.”

“Knowledge is nothing without understanding.”

As the extent of Barings' problems began to emerge Leeson began avoiding phone calls and emails and spending a minimum of time in the office. The stock exchange, bank and regulators each had no understanding of what was going on at Barings, according to Leeson.

“I stepped out of line but I wouldn't have been able to go as far as I did or the world of finance as a whole later did if adequate controls were in place. That's the real issue, not the debate about bonuses and remuneration.

“Barings risk management systems were 'off the wall' inaccurate. Merrill Lynch had algorithms that didn't work. The global financial collapse last year could have been avoided.

“The lessons from previous scandals were not applied and a high degree of gearing and leveraging was allowed.”

Trading conditions can change rapidly, faster than risk management systems designed around historic market conditions, can keep up with; but Leeson said IT systems still offer the best way to flag up anomalies that demanded explanation.

The human element

Leeson said he was not motivated by possible bonuses in chasing risky trade but a desire to maintain his job, lifestyle and reputation for success.

“People bought into the success story and it was difficult to stop,” Leeson explained.

As the losses mounted Leeson operated on “pure animal instinct... trying to survive”.

“I led a Jekyll and Hyde existence, trying to keep things normal at home and maintaining the appearance of success while knowing I was only one phone call or knock on the door away from a question I wouldn't have been able to answer at work,” Leeson explained, adding that he turned to drink and frequent trips away from Singapore to cope with the stress.

Although he criticised risk management systems at Barings, Leeson took responsibility for his actions, admitted he had committed crimes as soon as he began using the error account and that he deserved to go to jail. Leeson served four and half years in a tough Singapore jail prior to his release.

Leeson was critical of the claims of other later rogue traders, such as Jérôme Kerviel of SocGen, that a culture of risk taking at their banks contributed to their disasterous investments and subsequent cover-ups.

Despite his experiences in jail and battle against cancer, Leeson's intelligence and sense of humour remain strong and unimpaired. He introduced himself to delegates at the show as the “only man who has written a cheque and the bank bounced”. ®